11/10/2008 @ 11:02AM

China's Stimulus: More Show Than Substance

Don’t judge a stimulus package by its half-trillion-dollar price tag. China’s early Christmas present is not as big as it seems.

Taking into account expenditures that were expected to take place in any case, the amount of new spending proposed by Beijing is actually a small proportion of the headline figure. The package also gives excessive weight to infrastructure spending and loan expansion rather than targeting domestic consumption, which must rise much more to sustain China’s growth, some analysts say. The spending will not likely occur fast enough to offset the global downturn nor be big enough to deliver a sustained boost to commodity producers, they add. Still, the move highlights Beijing’s desire to inject a confidence boost to market sentiment and to demonstrate to the world the government’s engagement in the situation.

The State Council, the equivalent of China’s cabinet, said Sunday night that the government would spend 4.0 trillion yuan ($585.5 billion), or nearly a fifth of the country’s gross domestic product, by the end of 2010. The capital will be pumped into infrastructure, housing, rural reform and environmental projects.

“In expanding investment, we must be fast and heavy-handed,” the State Council declared. Beijing allocated 100.0 billion yuan ($14.6 billion) just for the fourth quarter for building roads, railways, airports and affordable housing.

“What we have is a set of plans that apparently have a very large number attached to them, but we don’t really know the exact additional stimulus that they imply,” said Eric Fishwick, a Hong Kong-based economist for CLSA. “It does include lots of things that we already know about. It also includes a lot of things that would’ve happened regardless…. The situation, to be honest, isn’t that much different from what it was on Friday.” The stimulus package folds in previously anticipated expenditures, such as 1.0 trillion yuan ($146.4 billion) for post-earthquake reconstruction in southwestern China, tax breaks for companies’ capital investment, export rebates to stem the decline in manufacturing and land reform measures meant to reduce the rural-urban income gap.

Only 1.5 trillion yuan ($219.6 billion) of the fiscal stimulus is truly new, with 2.5 trillion yuan ($366.2 billion) stemming from previously allocated funds, calculated Bill Belchere, Macquarie Securities’ China economist. “The size of the package seems enormous on face value, and it has a short-term beneficial impact on sentiment,” he said. “But I think the real nuts and bolts of getting it online, of good long-term spending, will be an issue we’ll reevaluate down the line.”

Beijing is pushing against the limits of infrastructure spending and loan expansion, when it is domestic demand that needs to rise to protect China’s growth, the analysts said. Reversing recent efforts to discipline spending, the government’s package raises concerns about excessive investment and “may only ultimately exacerbate their problems,” Belchere said.

“They have exhausted the housing and infrastructure drivers of growth,” Fishwick added. With declines in exports, manufacturing and the property market, China’s economy slowed to a less than expected five-year low of 9.0% in the third quarter. (See “Single-Digit Growth In China: Here To Stay.”) A better long-term strategy is to reorient the economy away from exports and toward consumption, he said.

The social spending programs and rural land reform will likely boost urban and rural consumption, as China has raised the maximum home loan allowances for households and gave farmers an additional source of income through the freedom to rent out or mortgage their land. (See “For Rent: Rural China.”) But that is “help at the margin” and will not offset the cyclical downturn, Belchere said.

Moreover, infrastructure spending typically cannot be accelerated quickly enough to offset a cyclical downturn and rapid deceleration. The country’s heightened demand for construction materials, like cement and steel, may briefly boost commodity producers but will not offset the global demand slump, Belchere said.

Another analyst was more optimistic, though.

This stimulus still draws attention to China’s underlying macroeconomic strength, with its trade surplus and ample foreign exchange reserves, to weather a global recession, said Erwin Sanft, head of China research for BNP Paribas. It will give a boost to the agriculture, railway, health care, telecom and alternative energy sectors, as well as “result in a restoration of the China premium versus other markets which has been lost in the past 12 months.”The whopping price tag also allows Beijing to signal its proactiveness ahead of President Hu Jintao’s meeting Friday with world leaders in Washington to confront the worldwide financial crisis. The stimulus serves to allay fear that China may not react aggressively, Fishwick said.

After a series of monetary tightening measures to cool overheated investment earlier this year, China also shifted its monetary policy to “moderately easy” and has slashed interest rates three times, to 6.6%, since mid-September.